Broker Check

3 Costly Mistakes Before Retiring

| June 15, 2017
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    Retirement planning.  Unfortunately, it is not something that can wait the year you stop working.  Procrastination here will reduce your chance of living an ideal retirement lifestyle or worse yet, force you to work your entire life.

In fact, one in three Americans have zero dollars saved for retirement while 56% of Americans have less than $10,000 saved, according to a survey done by gobankingrates.com in 2016.  Procrastination at its finest. 

It all starts with your daily financial habits.  With proper planning, time is on your side in the form of compound growth.  This is absolutely crucial to build your savings nest egg.  What I find is those that delay educating themselves on this area often live with regret in their 50’s and 60’s as they look at their account statements.

The purpose of this post is to give you a first-hand look at three very costly mistakes people have shared with me.

3 Mistakes Summary:

  1. Hiring the wrong type of “financial advisor”
  2. Failure to plan for RMDs (Required Minimum Distributions)
  3. No diversification

 

  1. Hiring the wrong type of “financial advisor”

I sit down with many people that show me their investment statements and have no clue why they chose this type of account or better yet why their advisor recommended it to them.  My first question, “when is the last time you met with your advisor?”  The answer more often than not is they haven’t met with that agent since they signed the paperwork to start the account. 

Sad but true, there exist many advisors that do not look out for their clients’ best interests.  These types of advisors give good advisors a bad name, tarnishing the financial advising reputation as a profession. 

I do not blame people for thinking this way.  Yes, initially it makes my job more difficult in working with a new client.  However, once people understand the financial planning process and the consistent service model we provide, many find that working with my practice gives them better peace of mind.

Key things to consider in working with a financial advisor include:  are they a Certified Financial Planner?  What does their client service model look like?  How do they get compensated?

Be cautious in using a bank for your retirement needs.  Bank employees may be forced to use their own bank’s proprietary products, financially incentivizing them to sell high commissioned products over more suitable investments to the consumer.

Lastly, think twice if trusting your retirement and investments to a part-timer/ amateur.  There exist today many multi-level marketing companies that still sell financial products such as life insurance products and/or mutual funds.  Typically, these inexperienced “advisors” are looking to make an extra buck to support their lifestyle rather than building long-term relationships and a full-time career that supports yours.  Buyer beware of part-time “advisors.”

More details on my opinion on what you need to do before working with a professional can be found on another post on my website titled “4 Must-Do’s Before Hiring a Financial Advisor.”

 

  1. Failure to plan for RMDs (Required Minimum Distributions)

First, what are RMDs?  RMD stands for required minimum distributions.  Simply put, when someone turns 70 ½ years old the US government forces people to start taking withdrawals from qualified retirements accounts such as 401k’s, 403b’s, TSPs and IRAs. 

People fail at RMD planning when they are penalized a stiff 50% if they forget to take their minimum distribution by the deadline.  The first RMD is due April 1st of the year after you turn 70 ½ years old, the second RMD is due that same year on the last day 12/31.  Moving forward each 12/31 of the year is the deadline to withdraw from your retirement accounts otherwise you will receive a penalty notice in the mail.

Each year the RMD increases based on life expectancy tables.  Since the saver defers taxes their entire life inside a 401k or IRA, Uncle Sam finally wants his portion of tax money, at a rate of potentially thousands more each year.

For those that fail to properly plan for RMDs, they may be forced into a higher tax bracket in their retirement years.   Often called “bracket creep,” this is often a result of being forced to take higher withdrawals each year from their retirement accounts whether they need the money or not. 

Many believe they will be in a lower tax bracket in retirement.  This is possible for some.  Each family’s tax situation is different.  Keep in mind that in retirement, pensions, 401k’s, IRAs are fully subject to ordinary income tax along with up to 85% of your social security benefits.  A retired couple may have their mortgage fully paid, in effect losing the tax deduction on mortgage interest. 

For those over 70 ½ years old there are still things you can do to help your situation from a financial planning and tax perspective.

Failure to plan for these withdrawals affects your entire income plan in later years.  It is a matter of diversifying your taxes among all your investment accounts and not just relying on a traditional 401k the rest of your life.

Some of the solutions when planning for RMDs include using Roth IRA conversions and/or back-door contributions before the year end to name a few.  You should be talking with your Certified Financial Planner about all your income sources in retirement and what effect it will have in retirement. 

 

  1. No Diversification

Control what you can.  No one can control the stock market and its volatility, the US economy or what our President tweets. 

What you can control is how you spread your money among different asset classes to minimize your risk.  You control which pre-tax or tax advantaged accounts you contribute into.  Increasing your 401k contribution rates annually and spending less on unnecessary things are at your discretion.

When it comes to diversification I have seen almost half a person’s net worth invested in their employer stock because they believe their company to do well in the next few months.  A good rule of thumb is not to have more than 5-10% of assets tied up to one single holding.  Sounds obvious but you’d be surprised at how many people exhibit irrational behavior when their own company stock is involved.  Stock market corrections happen, best to diversify or put stop-loss orders on your company stock to protect yourself.

Another common case I witness is people rolling over company stock within their 401k into an IRA.  Awful idea.  Company stock within your 401k has a tax advantage called NUA which stands for Net Unrealized Appreciation.  When done properly an employee can utilize the lower capital gains tax at 15% on the growth of the company stock instead of rolling into an IRA and paying higher ordinary income taxes.  Big tax savings here not discussed enough with the public.

Lastly, I met with a couple that had five different annuities.  They were advised that this was a great way to ‘diversify’ their retirement funds.  That advisor is no longer licensed.  Liquidity risk must be considered with annuities given the lock up period one has to wait for before the substantial withdrawals can be made.  Stuffing most of your retirement money in annuities is a questionable recommendation and by no means an effective way to diversify your portfolio. 

Typically, 4-7 different asset classes are necessary to properly allocate your investment account according to the CFP Board.  Along with different types of asset classes, various types of taxable, pre-tax and tax-free accounts should be evaluated for your funds.  Don’t be afraid to ask if you have a Roth option for your employer 401k or a Health Savings Account.  These are overlooked strategies that have tremendous tax advantages if used properly.

 

Summary

     Why not retire the right way?  Don’t leave this up to chance and hope.  Educate yourself by avoiding these three common mistakes.  Be cautious of the various types of advisors out there.  Plan ahead for the certain RMDs at 70 ½ years old.  Diversify how you invest and where you save.  There is no perfect time to wait to begin your retirement planning, the time is now.  Contact me for an objective review or any questions about your situation.

 

 

Dustin Javier, CFP® AWMA®

CERTIFIED FINANCIAL PLANNER™

President | Dean Johnson Advisory, LLC

[Phone] 630.802.1142

[Email] [email protected]

[Website] www.djavier.com

 

 

Securities and investment advisory services offered through Ausdal Financial Partners, Inc. Member FINRA/SIPC. 5187 Utica Ridge Rd., Davenport, IA 52807. (563) 326 2064.  www.ausdal.com   Dean Johnson Advisory and Ausdal Financial Partners are independently owned and operated.

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